The GraphPaper should not be used as a "child" element of the RadDiagram. In a typical ItemsControl, when something is added as a child in XAML, it is wrapped to the corresponding Container. If you use ListBox, the added object will be wrapped to ListBoxItem, for instance. Analogically, RadDiagram will wrap the object to RadDiagramShape. But you can never have both bound items generated via ItemsSource and a static ones in XAML. The analogical system exception in a System Control will be:
"Cannot modify the Items collection when the DataSource is set" (or something very similar).
On the other hand, do you really need to use the GraphPaper stand alone ? Actually you can set it with a single property - IsBackGroundSurfaceVisible. You can find more info here.
the Telerik team